The U.S. Dairy Revenue Protection plan introduced in October is gaining traction as a potentially valuable risk management tool for dairy farmers, which some analysts believe could also drive new volumes on futures exchanges.
'Real Economic Damage'
But the new government program is not a magic wand in a market suffering from sagging prices for milk, cheese and whey, largely caused by a trade war and a market glut.
"Farmers are feeling battered going into the fifth year of relatively low milk prices," said Mark Stephenson, Director of Dairy Policy Analysis, University of Wisconsin, Madison.
"This summer, just when market prices looked to be turning around, trade disputes on steel and aluminum prompted retaliatory tariffs from Mexico and China on cheese and whey."
Low prices are causing "real economic damage," according to Brian Rice, Principal of the Chicago-based brokerage Rice Dairy, including triggering foreclosures and consolidations across the country.
"At the producer side you've got a lot of pain right now," Rice said.
Collateral Tariff Damages
The twin woes of rising production costs and falling commodity prices over the past four years are forcing farmers out of the dairy business, according to analysts.
"We're seeing a significant loss of dairy farms," said Larry Shover, President of the Iowa State Dairy Association Board, according to an AP story. "They don't see a light at the end of the tunnel."
Iowa, the country's 10th-largest milk producer, has lost nearly 7 percent of its farms this year, or some 80 operations, according to the report.
Then came U.S. tariffs on steel and aluminum on Mexico and China.
Mexico, America's biggest dairy export market, and China retaliated with their own tariffs and exports slumped in October before recovering.
Laurie Fischer, CEO of the American Dairy Coalition, estimated that the trade war has slashed depressed U.S. milk prices by more than 10 percent.
With the dire outlook as backdrop, the U.S. Department of Agriculture unveiled the new Dairy Revenue Protection Insurance Plan, or Dairy-RP, in August for an Oct. 9 start date. Farmers buy into the plans from a licensed crop insurance agent.
Producers may purchase the insurance quarterly for up to 15 continuous months, and simultaneously participate in the Margin Protection Program. Coverage ranges from 70 to 95 percent in five percent increments.
John Newton, Chief Economist at the American Farm Bureau Federation, explained that farmers may choose from a range of options designed to match farm-level milk price and revenue risk. He said in the first two months the new plan covered nearly 10 billion pounds of milk across the country.
Farmers are looking at the program as another much-needed risk management option, according to Scott Brown, Associate Extension Professor at the College of Agriculture, University of Missouri-Columbia.
"There will be times where Dairy-RP will be a great tool," he said. "In periods of high milk prices, Dairy-RP could offer a very attractive revenue floor opportunity."
The new $867 billion farm bill now through Congress will provide other complementary support to the insurance plan, including an update to the margin protection program for dairy farmers.
Complement to Futures and Options
Rice of the Rice Dairy brokerage believes Dairy-RP is shaping into a key program that can be used alongside more traditional dairy futures contracts.
"It does not mean they should not use the other tools," Rice said. "In fact, we think this will help grow the exchange traded volumes among dairy farmers."
He said the insurance price tag is about half the cost of buying put options on exchanges such as the CME, and under the program the payment is not due until 40 days after it expires.
But farmers should still use hedging strategies of puts -- where they agree to sell an underlying security in the future at a set price -- to lock in gains on the upside.
Rice said typically farmers see the benefit of the combined risk strategy. "Once they put the pieces together on this thing, they are pretty quick to just say, 'You know what?' Sign me up.'"
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